Consider a Home production of TVs the final good including R

Consider a Home production of TVs (the final good) including R&D and component produc- tion. (a) Draw a hypothetical PPF for the Home company (component on the horizontal axis and R&D on the vertical axis). Let (PC/PR) be the relative price of components in the absence PR of offshoring. Choose a point on the PPF and call it an equilibrium in the absence of offshoring and draw a line reflecting (PC/PR). (b) Now consider an equilibrium with offshoring for which the world relative price of components is (PC/PR)^W. Illustrate the gains from outsourcing if Home has a comparative PC PC W1 advantage in component production, that is, (PC/PR) < (PC/PR)^W1. (c) Now suppose that the relative price of components rises further, that is, (PC/PR)^W1 < (PC/PR)^W2. Are terms of trade improved or worsened? Illustrate the impact of this change in terms of trade on the production of TVs on your diagram.

Given: (PC/PR)^ W₁ > (PC/PR)^W

This implies home country has a comparative advantage in component production i.e. home country\'s opportunity cost of component production is lower than it is in the other countries. It\'s component production can be done at a lower price and then it can sell it for the higher price in the other countries. Therefore it would specialize in component production.

3. Terms of trade= Price of exports / price of it\'s imports

For home country, TOT= Price of components/ price of price of R&D

If relative price of components would further rise, home country\'s terms of trade (TOT) would improve and would worsen in the foreign country.

An increase in the price of components and at unchanges price of R&D, would make the output of componets increase. It\'s supply of components would increase and that of R&D would go down.

In the figure, there will be Increase in component production, which will be shown by Q_2C-Q_1C_.

Consider a Home production of TVs (the final good) including R&D and component produc- tion. (a) Draw a hypothetical PPF for the Home company (component on

Consider a Home production of TVs the final good including R

Solution

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